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Big investors aim to double ESG flows; UK pay accuracy in focus; Biden’s green(ish) pick

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Breaking news: The UK on Friday threw down the gauntlet to other countries ahead of a climate summit next week by becoming one of the first leading economies to upgrade its carbon emissions reduction target for 2030, our FT colleagues have reported. Prime minister Boris Johnson set a target for the UK to slash its emissions by 68 per cent by the end of the decade, relative to 1990 levels, in a move that will require restructuring a significant portion of the economy.

The announcement comes on the heels of former Bank of England governor Mark Carney’s statements on Wednesday in support of a global carbon offset market, calling it an “imperative” to help reduce emissions.

Welcome to Moral Money. Today we have:

  • An “awakening in the investment management community”

  • Possible manipulation of companies’ pay ratio figures

  • BlackRock’s Brian Deese picked for top White House role

BlackRock survey points to huge growth for ESG

We know there are still plenty of ESG sceptics out there. But the number of non-believers is shrinking by the day, and it is starting to look like anyone betting against sustainability is taking the opposite side of a huge momentum trade.

BlackRock, the world’s largest asset manager, recently asked 425 of its institutional clients about their plans for the future and found that they intended to double their exposure to environmental, social and governance (ESG) investing over the next five years. Yes, really.

This is important for numerous reasons. First and foremost is the sheer amount of money involved. The survey respondents themselves come from all over the globe and oversee a collective $25tn in assets. While it is notoriously hard to pin down an exact figure on the total size of the ESG market, it is clear that the growth potential is huge.

This response is also a sign that the idea that ESG harms performance is dying out. The survey shows an “awakening in the investment management community” that ESG delivers enhanced returns, said Mark McCombe, chief client officer at BlackRock.

Another striking detail: an overwhelming number of respondents said climate change was their top priority. This is important, given that the survey was completed in September 2020, which meant that even the economic stress of the pandemic was not damping investors’ interest in addressing climate change.

It is unclear whether this is the cause of BlackRock’s own new-found emphasis on climate risk or a reaction to it, but it is an encouraging sign that investors are coming around to the problem.

As famed investor Jeremy Grantham pointed out at the FT Moral Money Investing for Good Summit yesterday, climate risk is still wildly mispriced, and the sooner that investors reposition for that, the better. The scale of money that needs to move is startling: a new paper from the Global Financial Markets Association suggests that investors need to pump an additional $3tn-$5tn per year into decarbonising the economy to achieve the Paris climate goals.

Can this happen? Moral Money readers will not be shocked to learn that the BlackRock survey also found that the lack of clarity around ESG definitions, data and ratings was the top complaint for investors.

Another problem is the lack of sustainable investing products, which was cited by 31 per cent of the survey respondents. That might seem more surprising considering the boatload of PR emails we receive every day announcing new sustainable fund launches. But it probably reflects a sense of frustration with the fact that if you ask 100 different people what sustainable investing means, you are likely to get 100 different answers.

© UBS

However, one development that may soon address this is customisation, as Suni Harford, (pictured above) the president of UBS Asset Management, told the FT’s Investing for Good summit this week. While separately managed accounts — where investors can have granular control over the securities in their portfolio — have traditionally been available only to the largest investors, new technology is making it much easier and cheaper to roll these products out downmarket.

Technology also makes it much easier to implement automated ESG strategies within these accounts, which can be tailored to an individual investor’s preferences. BlackRock’s recent acquisition of Aperio and Morgan Stanley’s purchase of Eaton Vance (and its subsidiaries Parametric and Calvert) suggest they agree that customisation is important — and are jumping in too.

As momentum builds, it will be harder for naysayers to stand aloof. Or as Ms Harford said in her keynote, when investors tell her they don’t believe in climate change, her answer is: “I don’t care.” The direction of travel is clear. (Billy Nauman)

Accuracy of pay ratios receives increasing attention

© Ed Sweetman/Dreamstime

For decades, the UK has required companies to compare executives’ earnings with the pay of ordinary employees — a ratio designed to help scrutinise increasing inequality. But the real pay gap is actually much bigger than reported because companies do not have to include outsourced low-paid work, according to a new paper from the London School of Economics and Political Science.

In fact, companies with high pay ratios outsourcing non-core has become standard operational practice, the paper found.

For the 94 companies in the FTSE 100 that are not investment firms, average pay in 2015 was £52,233 — more than twice the UK average earnings for the year, the paper said.

Companies are starting to publish their annual ratios, “but the emerging data show that the current regulations are deeply flawed”, said the paper’s authors, professors Paul Willman and Alex Pepper.

The disclosure requirements “should really include all workers, including agency and other casual workers, as well as non-UK employees. Only then might these new disclosure requirements begin to have an effect,” they added.

Meanwhile, UK company pay ratios are probably not skewed as badly as their US counterparts — with huge supply chains originating from Asia, the professors said. The accuracy of pay ratios has recently received increasing attention, at least in liberal-leaning parts of the country. San Francisco voters last month approved a “CEO tax” on businesses that have a 100-to-1 pay ratio. Will New York be next? (Patrick Temple-West)

Biden’s BlackRock White House pick gets mixed response

© REUTERS

After seemingly endless speculation, the incoming Joe Biden administration has finally made it official: Brian Deese (pictured, left) will be the new head of the National Economic Council.

Given his prior role as BlackRock’s head of sustainable investing, Mr Deese’s appointment has been applauded by many in the ESG world. The BlueGreen Alliance, a consortium of some of the US’s largest labour unions and environmental organisations, said there was “no better choice” for the job. And Republican Hank Paulson, the former Treasury secretary and head of Goldman Sachs, sang his praises, saying: “His energy and skills will be invaluable in dealing with the enormous economic challenges posed by the Covid crisis and climate change.”

Many in the climate activist community are not happy. Last week, when it was reported that Mr Deese was being considered for the role, progressive organisations including the Rainforest Action Network, Greenpeace USA and the Sunrise Movement staged an impromptu protest outside BlackRock’s headquarters. They say Mr Deese’s tenure at BlackRock should disqualify him from joining the Biden administration, because they believe the firm has not done enough to back up its rhetoric on climate change.

However, Mr Deese did win a vote of support from Bill McKibben, co-founder of 350.org. Mr McKibben has a long personal history with Mr Deese as he outlined in a thread on Twitter. Some of the criticism he has seen from climate activists has not been “remotely correct”, Mr McKibben wrote. “I know he cares a lot, and works hard on the issue.” (Billy Nauman)

Billionaires’ bet

In recent years Iconiq, the secretive family office that manages the gazillion-dollar wealth of many of the most successful Silicon Valley stars (think Mark Zuckerberg, Sheryl Sandberg, Jack Dorsey, Reid Hoffman, to name but a few) has tried to stay under the radar.

But this week it briefly poked its nose above the parapet to announce that it has chosen finalists for a $12m competition that its clients are funding to create innovative refugee support programmes. The key backer for this is Chris Larsen, founder of Ripple, and his wife Lyna Lam, herself a former refugee following the Vietnam war and Cambodian genocide.

Of course $12m is not even chump change for Iconiq (or Larsen) — and this is just one of numerous philanthropic ventures tumbling out of Silicon Valley right now. However, there are two reasons why this move is an interesting sign of the times. One is that it shows the degree to which family offices of all stripes face demands from their clients to demonstrate commitment to humanitarian causes.

Second, the refugee competition is just the tip of the iceberg of some intense, furtive brainstorming under way inside Iconiq’s network around how to leverage its powerful stable of entrepreneurs — and “entrepreneurial capital” — to scale up philanthropy and affect investment in some innovative ways.

The fruits of this have yet to be seen. But, if nothing else, it should remind us all that the ESG wave is not just sparking a shift in behaviour in the public markets — or the highly visible ETF space — but the deeply secretive private family offices too. (Gillian Tett)

Chart of the day

Proxy votes on 2020 key climate resolutions, matched 2019 resolutions

Morningstar this week published a report on the support for climate change shareholder proposals during 2020. BlackRock and Vanguard supported 12 and 15 per cent of climate change resolutions respectively, Morningstar said. But there was a significant range in funds’ willingness to back climate change proposals. Smaller fund firms with a history of supporting climate initiatives were more likely to increase their willingness to vote in favour of these resolutions this year.

Grit in the oyster

Just a few short months after announcing its “Cocoa for Good” sustainability programme, US chocolate maker Hershey’s has come under fire (along with other confectionery companies) for allegedly dodging a levy to help impoverished small farmers in Ghana and Ivory Coast.

Hershey’s, which is reported to have bought a large quantity of cocoa from an exchange that allowed it to avoid a $400 per tonne living wage surcharge, was also banned from operating chocolate sustainability programmes in the two countries, our FT colleagues wrote this week.

Hershey’s said the “misleading” statement from the two countries was “unfortunate” and they had jeopardised critical programmes that helped farmers. The confectioner said it was participating in the levy for the current crop year and would continue to do so.

Seeking your input

As trailed this week, the Moral Money Forum is launching a series of in-depth reports, and we’re keen to inform them with your insights. Our first report will ask how investors and the companies they invest in can encourage long-term behaviour in a world of short-term pressures. Please share your thoughts, case studies and data with us here.

In honour of the fifth anniversary of the Paris climate agreement, a team of filmmakers created a documentary titled The Decade of Action that looks at how companies are reinventing themselves to make their business, and our world, sustainable. On December 10 at 11am CET the film will premiere followed by a panel discussion moderated by Gillian Tett. Register for the live event and film release here.

Further reading

  • Biden’s climate agenda goes global (FT)

  • For female economists, Janet Yellen’s Treasury secretary nomination marks another inspiring first (WashPost)

  • BlackRock’s Aladdin to Provide Security-Level Climate Risk Tool (FundFire)

  • The Future of ESG Is . . . Accounting? (HBR)





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US banks could cut 200,000 jobs over next decade, top analyst says

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US banks stand to shed 200,000 jobs, or 10 per cent of employees, over the next decade as they manoeuvre to increase profitability in the face of changing customer behaviour, according to a banking analyst. 

“This will be the biggest reduction in US bank headcount in history,” Wells Fargo analyst Mike Mayo told the Financial Times. If his forecast bears out, this year would mark an inflection point for the US banking sector, where the number of jobs has remained roughly flat at 2m for the past decade.

The jobs most at risk are those in branches and call centres as banks prune their sprawling networks to match the new realities of post-pandemic banking, Mayo’s report found. That is consistent with Department of Labor statistics that predict a 15 per cent decline in bank teller jobs over the next decade.

Historically, lay-offs, particularly for lower-paying jobs, have been a contentious issue for the banking industry, which is often held up by progressive politicians as an example of a wealthy industry prioritising profits over people.

But the threat of technology companies and non-bank lenders chipping away at the business of payments and lending, which have traditionally been dominated by banks, has intensified over the past year, making job cuts necessary, Mayo said.

“Banks must become more productive to remain relevant. And that means more computers and less people,” he said.

Most of the reductions can be achieved through attrition over the next 10 years rather than cuts, reducing the risk of a backlash, Mayo said.

The new research, reported first by the FT, comes on the heels of disappointing jobs data that showed the US economy added just 266,000 jobs last month, sharply missing estimates of 1m. Structural elements of unemployment like accelerated automation that took place during the pandemic could pose stronger than anticipated headwinds to a recovery in the labour, economic officials said following the report. 

Pandemic activity pushed headcount up roughly 2 per cent last year as banks hired staff to meet the sudden demand for labour-intensive mortgages and government-backed small-business loans. But that trend is likely to be reversed in the near-term as lenders refocus on efficiency to compete more effectively with technology companies that increased their share of business during the health crisis. 

Increased competition from unregulated companies such as PayPal and Amazon entering financial services was one of the principal concerns JPMorgan Chase chief executive Jamie Dimon outlined in his annual letter to shareholders last month. 

Mayo estimates that banks currently represent just a third of the overall financing market.

“Digitisation accelerated and that played to the strength of some fintech and other tech providers,” Mayo said. 

Many of the bank branches that were closed during the pandemic will probably stay that way, and even those that remain open are likely to be more lightly staffed as branches become more focused on providing advice than facilitating transactions. A large amount of back-office roles also stand to be automated but those numbers are harder to quantify, the report said. 

Mayo said his team 20 years ago was twice as large and responsible for half as much. Doing more with less was the new norm across the industry.

“If I was giving advice to my kids, I’d say you probably don’t want to go into the financial industry,” Mayo said, adding that technology and customer or client-facing roles are probably the only areas that will see growth. “It’s likely to be a shrinking industry.”



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Inflation wild card unsettles markets

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Regime changes usually take a while to fully register among investors. The big talking point in markets at the moment surrounds the potential return of a more troublesome level of consumer price inflation and what protective action investors should take.

The underlying trend of inflation matters a great deal for financial markets and investor returns. The rise in both equity and bond prices in recent decades has occurred during a long period of subsiding inflation pressure and from recent efforts by central banks to arrest disinflationary shocks since the financial crisis. 

A year after the global economy abruptly shut down, activity is duly picking up speed. The logical outcome has been a surge in readings of inflation and this week, a measure of US core prices recorded its largest annual gain since 1996, running at a pace of 3 per cent*.

Core readings exclude food and energy prices and are deemed a smoother gauge of underlying inflation pressure, a point that many people outside finance find baffling when budgeting the cost of groceries and petrol.

So the significant jump in the core measure, and even accounting for the base effect of the pandemic’s brief deflationary shock a year ago, has understandably generated plenty of noise.

This will remain loud in the months ahead as activity recovers from lockdowns with a hefty tailwind of fiscal stimulus working its way through the broad economy.

But muddying the waters for investors is that the outlook for inflation is still difficult to judge at this stage.

“There is so much dislocation in the economy from the reopening and base effects from a year ago that it will take at least six to 12 months before we get a clear view of the underlying inflation trend,” said Jason Bloom, head of fixed income and alternatives ETF strategies at Invesco.

Investors who are now worried about an inflation shock face a dilemma. Some assets seen as traditional hedges against such a risk, like inflation-protected bonds and commodities, have already risen appreciably. Effectively a period of inflation running hot has been priced in to some degree.

And history does provide a cautionary note for those moving late to buy expensive inflation protection.

Past inflationary alarms, as economies recovered in the wake of the dotcom bust in the early 2000s and the financial crisis of 2008, proved false dawns. After a mercifully brief pandemic recession, the powerful and well entrenched disinflationary trends of ageing populations and falling costs associated with technological innovation are by no means in retreat.

For such reasons, a number of investors and the US Federal Reserve expect inflationary pressure this year will prove “transitory”. But stacked against deflationary forces is the immense scale of the monetary and fiscal stimulus of the past year.

The effects of monetary and fiscal stimulus means “inflation may settle into a pace of 2.5 per cent (annualised) and that would be different from the average of 1.5 per cent before the pandemic”, said Jason Pride, chief investment officer of private wealth at Glenmede Investment Management. “Inflation will be higher. At a dangerous level? No.”

In an environment of firmer growth and moderate inflation pressure, equities will benefit, led by companies that have earnings more influenced by the economic cycle. Investors also will seek companies that have the ability to pass on higher prices to customers in the near term and offset a squeeze on profit margins.

Still, a troublesome period of elevated inflation cannot be easily dismissed. The “transitory” argument could be challenged if economic growth continues to run hot into next year, accompanied by a trend of higher wages from companies finding it hard to attract workers.

Before reaching that point, expected inflation priced into the bond market may well push past the peaks of the past two decades and enter uncharted territory in the US and also for other developed markets in the UK and Europe.

Bond market forecasts of future inflation pressure over the next five to 10 years have already risen sharply in recent months. But the rebound is from a low level and for now, expected inflation is not far beyond the Fed’s long-term target of 2 per cent.

“It is the change in inflation expectations that drives asset returns,” said Nicholas Johnson, portfolio manager of commodities at Pimco. Assessing almost 50 years of data, a portfolio holding equities and bonds underperforms during bouts of elevated inflation, while real assets including inflation-linked bonds and commodities prosper, according to the asset manager.

“Most investors have not experienced a period where inflation surprised to the upside,” added Johnson. Clients are asking more questions about insulating their portfolios, but their present exposure to commodities and other assets show that in broad terms investors are “not paying much of an inflation premium”.

That can change and the prospect of inflation regime change remains a wild card for investors.

michael.mackenzie@ft.com

*The value of core inflation has been changed since first publication.



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How traders might exploit quantum computing

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If you had a sports almanac from the future as did Biff Tannen, the brutish bully of the time-travelling Back to the Future movie trilogy, how might you be inclined to take advantage of the foresight buried within it?

The obvious temptation would be to place sure bets in the market that make you rich. In Biff’s case, the wealth is then used to change the world into a dystopian reality in which he himself exists as “America’s greatest living hero”.

That sort of thing used to be considered fiction. But the dawn of so-called “supremacy” of quantum computing over conventional technology raises the possibility that one day soon someone might be able to effectively see into the future.

This is because quantum computers, when they become fully capable, are likely to be uniquely good at crunching probability scenarios. They are based on the mysterious world of quantum physics. Quantum bits or qubits are the basic units of information in quantum computers. Unlike the binary bits of traditional computing, which must be either zero or one, qubits can be both at the same time.

This gives quantum computers super powers that will allow them to solve probability-based tasks that would previously have been impossibly hard for conventional counterparts in realistic timeframes. If the problem at hand was a game of football, adding quantum computers to the mix is like allowing footballers to use their hands to get the ball into the net, say quantum experts.

It’s a prospect that poses an entire new set of challenges for market regulators and participants. If super quantum computers really can help institutions see into the future, the information advantage will be unprecedented.

It might also represent an entirely new type of front-running and market manipulation risk, one that regulators can’t necessarily even identify unless they too have a quantum computer at hand.

In Back to the Future, the almanac gave Biff a 60-year insight advantage over everyone else in his home 1955 timeline. With quantum computers, the edge might only be nanoseconds. But in the fast and furious world of high-frequency trading, that could be enough to sweep up.

The reassuring news — at least for now — is that we’re still at least five years away from quantum computers being powerful enough to compete with existing supercomputers on much simpler problems. Prediction might not even be their initial forte.

Goldman Sachs research recently noted, as and when quantum computers are rolled out, they are far more likely to be deployed on crunching options pricing conundrums or running Monte Carlo simulations that value existing portfolios than they are on predicting future movements of asset classes.

According to Tristan Fletcher, of artificial intelligence-forecasting start-up ChAI, that’s because prediction is ultimately about solving a very specific, deep problem by understanding the nuances of the data that matters.

“We are already at the limits of what any system that isn’t actually listening to Opec meetings and five-year plans is capable of,” he said. It’s not the complexity of the calculation that is the issue as much as the breadth of the data sample at hand. That means prediction wouldn’t necessarily get more accurate with quantum power.

The appeal to focus on “brute-force” problems such as optimising portfolio analysis or cracking cryptographic problems such as those that underpin bitcoin, the cryptocurrency, is far greater.

But this poses its own problems. If cryptographic systems can be broken, exceptionally sensitive data held across the financial system could be exposed and taken advantage of in unfair and market manipulative ways.

Rather than being able to better predict the market, the true pay off in the arms race might lie in achieving quantum-level encryption-breaking capability and using it subtly to seize the information that can get a trader ahead. Experts say the chances someone is already up to this, however, are low. If quantum supremacy had been achieved, the news of it would leak pretty quickly.

“We don’t know what we don’t know,” said Jan Goetz, chief executive of IQM, a quantum computing builder. “But generally the community is very small so everyone knows what’s going on. The status quo is clear.”

Nonetheless, the financial sector seems to be waking up to this quantum computing issue. Many banks and institutions are introducing teams to think exclusively about how quantum computing will affect their business. How far ahead they are on making their systems quantum secure is harder to say. It’s a secretive issue. For now, most agree, the threat level is low, not least because — as the hacking of the Colonial pipeline shows — system security is low enough to ensure far cheaper and simpler ways to hijack digital systems.

izabella.kaminska@ft.com



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